Fixed Cost
A fixed cost is independent of production. It does not change
with the volume of production a company produces. It remains constant and must
be paid even if no goods are produced. For example, a company pay rent on
monthly basis for its factory for producing blocks, if company does not produce
blocks for a month, it would still have to pay the factory rent. Fixed costs
are also known as overhead or indirect cost. They are generally weekly, monthly
or annual expenses. Examples of fixed
costs are:
- Monthly rental payments for factory, office, warehouse or other premises.
- Salaries and wages of employees.
- Payment for insurance.
- Depreciation of building and machinery.
- Payment of interests.
- Vehicle leasing and maintenance.
- Research and development.
- Legal expenses.
Variable Cost
A variable cost is dependent of production. As volume of
production increases, the variable cost also increases and vice versa. The
variable cost varies with the volume of production. For example, a company
produces bottles, while per bottle cost is Rs. 3. If the company, produces 1000
bottles, its variable cost will be Rs. 3000. However, if the company does not
produce any bottle, it will not have to pay any variable cost for the production of
bottle. Variable costs are also known as prime cost or direct cost. Examples are following:
- Direct material used for production.
- Direct labor used for production.
- Delivery charges.
- Fuel expenses.
- Utilities expenses that increase with business activities such as electricity, gas or water usage.
Understanding the fixed and variable cost will help you to build
an effective budget and cash flow forecast for your business. Additionally,
understanding these costs will allow you to manage your business effectively.
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